The Virtue of Business: How Markets Encourage Ethical Behavior

The Virtue of Business: How Markets Encourage Ethical Behavior

**The following paper is reprinted with permission of Acton Institute and was originally published in the Journal of Markets & Morality.**

Introduction

Newspapers, the media, the cinema, and the pulpit are filled with claims about the immorality and corruption inherent in market economies. Since the end of the Cold War, American businessmen have displaced the Russians as the primary bad guys in action films (Formaini 2001). Beliefs hostile to capitalism are troubling because they threaten the moral foundations of market economies and, in so doing, often distort the truth about market outcomes.

Market economies are supported by ethical presuppositions, and these basic presuppositions, such as the “right to self-ownership,” play an essential role in the overall workings of the entire system. The simple principles of a market economy help to maintain the universal order of the system, and they guide policymakers and judges when disputes must be resolved. Economists and many philosophers understand and recognize the important role ethics and morality play in the market economy. Interest in the interaction between ethics and markets goes back at least to Adam Smith (1759 [repr., 1976], 215) when in The Theory of Moral Sentiments he discussed the “impartial spectator” and said, “He cannot therefore but approve, and even applaud, that proper exertion of self-command, which enables them to act as if their present and their future situation affected them nearly in the same manner in which they affect him.”

Smith’s impartial spectator carries over to the capitalistic market. Good ethical behavior is not only encouraged and rewarded, but according to Smith, it is part of human nature to act justly, and humans are encouraged by sentiment to do so rather than to act on that which solely benefits their own accord.

Even though ethical parameters are placed on people’s behavior in capitalist systems, many critics of capitalism describe free societies as societies where “anything goes” (Hill 1988). Rather than encourage ethical behavior, free societies are said to encourage vice and the abandonment of an ethical standard; according to critics, capitalism does not discriminate when it comes to the types of goods and services being produced. If life-saving medicines are profitable, markets will provide them; if land mines and prostitution services are valuable, markets will provide these goods and service too. Because markets do not discern between desirable and undesirable products, they can be thought of as either amoral or immoral.

In this article, we will argue against the amorality and immorality of markets. Rather than encouraging cheating, market economies often encourage ethical behavior. While the market economy will sometimes produce goods and services offensive to some people, there are strong forms of social ostracism and persuasion that help to discourage consumption of undesirable goods. Ultimately, though, for a business to be prosperous in the long run, they must maintain general standards in their business, such as trust, stewardship, investment, and attention to consumer satisfaction (Wilson 1990).

The only way to make a profit in a free market is by providing a product people value enough to pay a price higher than the opportunity cost of the resources used to produce the goods. The threat of competition and availability of substitutes makes it necessary for firms to constantly evaluate whether their product or service is more appealing than the competition’s. Sometimes the firm must push down the costs of production while keeping the product quality the same; other times, they must increase quality while keeping costs constant; or, they must pursue a combination of cost reductions and quality improvements. Without instilling a sense of value in their product, a business will not be successful over time.

The way in which a business goes about demonstrating to customers the value of their product or service is important. Businesses can convey information to customers and potential customers in either an ethical or an unethical manner. For example, a company could lie about the quality of its product. While such a strategy might work in the short run, in the long run unethical behavior typically gets punished and does not pay off. One example is Enron. In the short run, Enron executives and shareholders enjoyed enormous increases in their net worth from the increase in Enron’s stock price. However, once their accounting irregularities were discovered, Enron’s stock quickly crashed, and executives were eventually fined and imprisoned. When defrauded consumers and shareholders begin to discover the unethical actions of a business, they eventually stop buying from them because of their personal moral code, concern about the product’s overall reliability, or fear of legal action. In economies with greater competition, consumer wants are more likely to be satisfied by the abundance of alternatives available, and the healthy competition of the marketplace requires businesses to maintain a solid reputation if long-term success is desired.

In this article, we provide further discussion of why markets reward virtuous behavior and punish unethical behavior and the role of “ethical entrepreneurs.” We also illustrate our discussion with examples from three successful companies. Each of the companies selected prospered because their managers believed in one important idea: Ethical behavior is good for long-run profitability. The three case studies are Barnum & Bailey’s Circus, Whole Foods, and BB&T Bank. We use the aforementioned cases to illustrate how the market rewards virtuous behavior even without individual consumers consciously trying to do so.

Ethical Entrepreneurs

What does it take to be a successful entrepreneur in the ethical realm? In the next few sections, we offer cases of entrepreneurs, such as Barnum and Bailey, John Mackey, and John Allison, who have made profits for their companies while also promoting virtue. As entrepreneurs, Barnum and Bailey, Mackey, and Allison recognized the value of running their companies ethically at a time when most people saw the marketplace as an environment in which quick, short-term profits could be made. Both Mackey and Allison saw the importance of linking ethics to entrepreneurship, knowing full well the pitfalls and potential criticism awaiting them for linking ethics and profits together.

Ethical entrepreneurs differentiate their goods and services in the marketplace by first figuring out ways in which current markets are frustrating consumers and then by finding ways to respond to customer dissatisfaction by “selling” honesty, virtue, and quality. Ethical entrepreneurs use business tools to help customers make decisions consistent with the customer’s best long-term interest; the ethical entrepreneur thus helps to improve the overall business environment.

The ethical entrepreneurs are meeting the growing demand for honesty in the marketplace. To provide honesty and integrity, they have to invent new products, differentiate their products, and market the ethical aspects of their business. In serving the market for honest information, ethical entrepreneurs are not engaging in altruistic activity, but, rather, are helping to better serve and coordinate the market economy.

The following stories support the growing conviction among many social scientists and philosophers that markets can be a powerful force for good in the realm of morality. Ethical entrepreneurship should not be thought of as a magical cure-all for every business problem but, rather, as an approach; in the absence of the stick of government regulation, ethical entrepreneurship solves some of the trickier problems confronting businesses and consumers in the marketplace. Depending on their mission and the reason for their existence, businesses can be like any other social organization and provide goods that markets do not provide. Through their success, businesses, such as the three we discuss here, improve the lives of not only their customers and employees but also of the greater community.

With rising incomes and technological advancements, the demand for ethical behavior in the marketplace will continue to grow. One possible promoter of ethical behavior is government. Time and again, however, we have seen government efforts aiming to establish minimal standards of decency act as blunt instruments, which stifle creativity and discourage ethical behavior. Ethical entrepreneurship stands as an alternative to government managed business decency, and it goes about promoting the good by harnessing the incentives of the marketplace.

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The Institute for Faith, Work & Economics™ (IFWE) is a non-profit, 501(c)(3) Christian research organization committed to promoting biblical and economic principles that help individuals find fulfillment in their work and contribute to a free and flourishing society.